Foreign Capital Investment in Microfinance Balancing Social and Financial Returns

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icrofinance is experiencing an unprecedented Microfinance is a very attractive proposition for a Minvestment boom. The past five years have seen growing segment of socially responsible investors. remarkable increases in the volume of global The socially responsible investment (SRI) market is microfinance investments. Between 2004 and 2006, huge, with over US$4 trillion in assets. The emerging the stock of foreign capital investment—covering both markets share accounts for a meager US$5 billion, but debt and equity—more than tripled to US$4 billion. this is growing fast. The SRI world comprises a wide spectrum of investors with differing expectations, The entry of private investors is the most notable from those willing to receive below-market returns to change in the microfinance investment marketplace. those seeking competitive returns within the context New players arrive on the scene every month. Forty of a social mandate. SRIs are attracted to specialized microfinance investment funds have been microfinance institutions (MFIs) because MFIs are established in the past three years alone. Individuals “double bottom-line” institutions that seek to have a and institutional investors—including international positive social impact alongside financial returns. retail banks, investment banks, pension funds, and private equity funds—are all looking for ways to This new investment stream is good news channel capital into microfinance, and investment for microfinance providers. Microfinance banking techniques are being introduced to create needs a broader capital market to secure the investment vehicle alternatives that appeal to an funding required to scale-up outreach and increasingly broad range of investors. serve a greater number of financially excluded, low-income people. This new investment stream is good news for microfinance providers. Microfinance needs a broader That said, a few mainstream investors with no capital market to secure the funding required to scale- particular social focus also are beginning to invest in up outreach and serve a greater number of financially MFIs, although on a very small scale. This raises an excluded, low-income people. important question: Will purely commercial, return- maximizing investors allow microfinance to uphold the It is tempting to believe that this investment boom social mission that has been at the heart of its success?

FOCUS NOTE signals the entrance of mainstream commercial No. 44 investors seeking to maximize, risk-adjusted returns. This Focus Note builds on CGAP’s earlier industry February 2008 “Hedge funds, VCs and other big investors are seeing research on foreign capital investment presented in huge profit potential in tiny loans” reads a headline Ivatury and Reille (2004) and Ivatury and Abrams (2005).

Xavier Reille and from a recent Business Week. However, the reality is Sarah Forster, that, so far, the bulk of private investment in with research microfinance has come from investors with a social assistance from Tanya Surendra orientation alongside their financial motivations. 11627WBCGAP_Newsletter:Layout 1 3/3/08 1:27 PM Page 2

• It describes the new landscape of cross-border The landscape of foreign investments and presents an overview of who is investment in microfinance investing and why. • It presents the first ever published data on the There are three main categories of microfinance performance of microfinance investment vehicles investors: public investors, also known as international (MIVs). or development finance institutions (DFIs); individual • It provides an analysis of the latest developments investors, whether retail or high net worth; and insti- and issues confronting both the microfinance debt tutional investors. See Figure 1. and equity markets. • Finally, it explores how the influx of private-sector investment might influence the social focus of microfinance development.

Fixed income: Money market return. The Equity: Too soon to tell. Equity investment in average net return for fixed-income funds is close microfinance is surging, and MFI valuations are up, to money market, 5.8% in U.S. dollars and 3.2% in but it’s too soon to value the average net return for euros. —CGAP survey, 2006 microfinance equity funds. —CGAP survey, 2006

Figure 1: Foreign investment microfinance landscape

DFIs Individuals Institutional Investors

$150 million $800 million $1.5 billion $700 million

Government & Microfinance Networks Investment Vehicles

n/a $1.5 billion $2 billion $50 million $350 million

US$ 3.9 billion invested in total

Microfinance Institutions

Source: CGAP survey, 2006. 11627WBCGAP_Newsletter:Layout 1 3/3/08 1:27 PM Page 3

Public investors DFIs have more than doubled their investment in microfinance over the past two years, from US$1 DFIs—the private-sector investment arms of govern- billion in 2004 to US$2.5 billion as of the end of ment-owned development institutions—provide just December 2006 (CGAP DFI Survey 2006). This trend over half of the total foreign investment into microfi- looks set to continue. Between 2005 and 2006 alone, nance today.1 There are 19 DFIs, including multilateral DFI investment grew by 37 percent and is expected to organizations, such as EBRD, IADB, and IFC, and exceed US$3 billion by the end of 2007. Five DFIs bilateral organizations, such as AECI-ICO (Spain), KfW hold 72 percent of all DFI-related investments: German (Germany), and OPIC (United States). KfW (29 percent), EBRD (13 percent), IFC (12 percent), Spanish AECI-ICO (11 percent), and Dutch FMO (7 DFIs invest in microfinance as part of their official percent). See Figure 2. mission to support sustainable private-sector development in developing countries. Most DFIs started The official role of DFIs is to foster private investment financing microfinance in the late 1990s, following on in developing countries. In the early years of their the grant funding of donor agencies for microfinance involvement, DFIs played an important role as funders since the 1970s. DFIs brought a more commercial of today’s leading MFIs. They assumed financial risks approach to the industry, providing quasi-commercial at a time when microfinance was less proven as a sector loans, equity, and guarantees to MFIs capable of scale and private funders were much less willing to engage. and profitability. Now that these MFIs have proven their commercial

Figure 2: DFI Microfinance Investment Growth since 2004

3,500 2007 Forecast $3,000 MM 3,000 Structured Finance

2,500 $2,481 MM Guarantee Equity 2,000 $1,787 MM Debt 1,500 US$ Millions 1,000

500

0 2005 2006 2007

Source: CGAP DFI Microfinance Portfolio (2006).

1 DFI investment in this survey includes only public investments in privately run MFIs. It does not include bilateral or multilateral credit lines or grants to governments in developing countries for microfinance projects. 11627WBCGAP_Newsletter:Layout 1 3/3/08 1:27 PM Page 4

viability, private investors are often willing to provide Today it is also possible for more individuals to engage capital. Public investors have not always been quick to in microfinance investing through online, peer-to-peer respond to the growing appetite of private investors by lending initiatives, such as Kiva. Kiva enables MFIs to exiting the most commercially viable markets. Rather, raise interest-free debt capital directly from social there has been competition and, in some cases, investors via the Internet. Kiva investors fund crowding out of private investors with DFIs offering microentrepreneurs of their choice and receive regular lower interest rates and more flexible terms. updates on their projects. Since launching in October 2005, over 50 MFIs in 30 countries have raised debt from more than 180,000 individual social investors Individual investors via Kiva.org.

Socially motivated individual “retail” investors play an Other online investment organizations are emerging, important, though often unrecognized, role in funding such as MicroPlace and Globe Funder. MicroPlace is microfinance. Oikocredit, a Dutch cooperative society the first broker-dealer registered with the Securities established in 1975 by the World Council of Churches, and Exchange Commission that specializes in micro- was one of the first organizations to raise retail finance securities for retail investors in the United investment for microfinance. It has over 27,000 States. Unlike Kiva, this fund provides some returns to members from its social and faith-based networks. investors. Such business models tap into both the Other microfinance investment funds that raise capital growing participation in online social communities from individuals include the Calvert Foundation in the and the desire of individuals to make a difference. United States and specialized mutual funds registered Procredit Bank in Germany also plans to raise capital in Europe, such as Dexia Microcredit, responsAbility, online for its microfinance bank affiliates. and the Triodos Fair Share Fund. Over 80 percent of retail investors in these funds are based in Europe, mainly in Holland, Switzerland, and Germany. Institutional investors

In recent years, high net worth individuals have started Over the past two years, institutional investors, including to engage in microfinance investing as venture international banks, pension funds, and insurance philanthropists. These are typically successful entre- companies, have begun to take a keen interest in preneurs looking to make good use of both their microfinance investment. Many are responding to signif- money and business skills to help scale-up microfi- icant retail client demand for investment in this sector. nance. Examples include Pierre Omidyar, founder of eBay, who gave US$100 million to Tufts University to The first institutional investors in microfinance were create the Omidyar-Tufts Microfinance Fund, and Bob international banks, which initially acted through their Patillo, the real estate entrepreneur who founded the philanthropic departments. Deutsche Bank was the Gray Ghost Fund. Grameen Foundation has raised first commercial bank to establish a fund for MFIs in guarantee commitments of over US$30 million from 1998 through its philanthropic arm, Deutsche Bank nine high net worth individuals, which has succeeded Americas Foundation. Today, wholesale services to in directly leveraging US$112 million in local currency MFIs, in the form of loans, guarantees, and technical financing for MFIs. assistance, are the most widespread form of interna- 11627WBCGAP_Newsletter:Layout 1 3/3/08 1:27 PM Page 5

tional bank engagement in microfinance. Lending to The latest investors to be drawn to high-growth MFIs MFIs by international banks reached nearly US$550 are private equity investors that focus on emerging million in 2006—an increase of US$100 million over markets. A few, such as Sequoia, Blackstone Group, 2005 (ING 2006). Carlyle Group, and Dubai-based Legatum, have each made investments in the US$20 million to US$40 million International banks have played an important role in range in highly profitable MFIs in the most developed introducing mainstream financing techniques to MFIs. microfinance markets, such as Mexico and India. In 2005, Citigroup established a microfinance group These investors are focused on a narrow niche market that spurred financial innovation for local currency of high-growth MFIs that are capable of offering financing. For example, it arranged the first wholly competitive market returns. privately placed MFI bond for Mibanco in Peru and the first investment-grade local currency bond issues The interest of global banking groups, such as Citi- for MFIs with Compartamos in Mexico. It also group, Morgan Stanley, Deutsche Bank, ABN AMRO, arranged and invested in the groundbreaking securi- and Societé Générale, and private equity investors tization of BRAC in Bangladesh and structured the first signals the increasing credibility of microfinance as an local currency loan syndication for ProCredit Bank in attractive investment proposition.3 Romania. Citigroup is a banker to a number of microfinance funds providing foreign exchange hedging and agency services. MIV Performance

Large global investment banks form the second wave Approximately half of all microfinance investment of institutional investors. They offer MFIs investment from DFIs, individuals, and institutions is channeled banking and fund distribution services and act as through specialized financial intermediaries. These intermediaries between securities issuers and the MIVs comprise a diverse range of organizations in investment community. Credit Suisse, for example, terms of origin, investor base, philosophy, instruments, distributes the responsAbility Global Microfinance and targeted return rates.4 Fund. Morgan Stanley arranged and distributed the BlueOrchard Loans for Development (BOLD) I and II The number and size of MIVs have grown exponentially. bond offerings and is now building a business unit to Over 80 MIVs are now in operation, with US$3 billion offer a full range of investment banking services to the under management. MIV investment levels have dou- microfinance industry. bled between 2005 and 2006, reaching US$2 billion in 2006. Global insurance companies and pension funds are also starting to look at microfinance investment as part Individual investors and foundations were early back- of their SRI investment portfolio. Socially responsible ers of MIVs and continue to form the mainstay of funds run by insurance companies, such as Morley in their funding at 50 percent. DFIs were early sub- the United Kingdom and AXA in France, have made scribers as well and drove several MIV start ups, such small investments in microfinance. Some of the larger as the equity fund ProFund. However, their share of pension funds, such as TIAA-CREF in the United States, MIV funding has declined from 36 percent in 2005 to have made more significant allocations (up to US$100 30 percent in 2006. Institutional investors are rapidly million) to microfinance.2

2 TIAA-CREF created a US$100 million Global Microfinance Investment Program within its SRI allocation; its first investment is a US$43 million private equity stake in ProCredit Holding AG. 3 Domestic banks are also aggressively moving into microfinance. More than 300 local universal banks provide loans and banking services to existing MFIs or offer microfinance services to low-income clients. 4 A majority of MIVs are private companies (69 percent), followed by nonprofit/nongovernmental organizations/foundations (15 percent), and cooperatives (8 percent); a further 8 percent are not a separate legal entity (MIV 2005 Survey). 11627WBCGAP_Newsletter:Layout 1 3/3/08 1:27 PM Page 6

catching up, having doubled their investment share ance. However, in 2007, CGAP, with technical support during the past two years to 20 percent. from Symbiotics (a research and consulting company based in Switzerland) carried out a market survey as The top 10 MIVs account for 67 percent of total MIV a first step toward improving the transparency of investment. (See Figure 3.) The largest MIVs represent MIVs.5 Forty leading MIVs, representing 86 percent of a mix of MIV types. ProCredit, a German holding total industry investment, participated in CGAP’s survey company that invests in new, “greenfield” microfi- by sharing (on a voluntary and confidential basis) nance banks is currently the largest MIV, followed by performance data and audited financial statements for Oikocredit. EFSE, a fund established by public year-end December 2006.6 investors to invest in Eastern Europe, has grown extremely rapidly to become the third largest MIV. To allow meaningful comparison of results, CGAP However, more commercially oriented funds, such as organized MIVs into six categories or “peer groups” Dexia Microcredit Fund and responsAbility Global based on their business models, commercial orientation, Microfinance Fund, and structured finance vehicles and financial instruments. MIVs all share some measure (described later) are becoming increasingly important. of social and developmental orientation. Until now, little has been known about MIV perform- The peer groups are as follows:

Figure 3: Top 10 MIVs

ProCredit Holding AG Holding Company

Oikocredit Blended Value Fund

European Fund for Southeast Europe Commercial Investment Fund

Dexia Microcredit Fund Registered Mutual Fund

BlueOrchard Loans for Development 2006-1 CDO

responsAbility Global Microfinance Fund Registered Mutual Fund

BlueOrchard Microfinance Securities I, LLC CDO

Microfinance Securities XXEB 20011 CDO

Global Commercial Microfinance Consortium Commercial Investment Fund

Gray Ghost Microfinance Fund LLC Fund of Funds 100 200 300 400

US$ millions

Source: CGAP MIV Survey, 2006.

5 This research, which was conducted during summer 2007, was based on the MIV Disclosure Guidelines, an industry disclosure framework built on good practices for investment fund reporting. 6 This information was reclassified according to CGAP’s MIV Disclosure Guidelines. 11627WBCGAP_Newsletter:Layout 1 3/3/08 1:27 PM Page 7

1. Registered mutual funds targeting primarily retail 4. Blended-value funds offering below-market returns investors and seeking near a money market returns to socially focused investors and providing a mix of from primarily fixed-income investment debt and equity finance to MFIs

2. Commercial fixed-income investment funds tar- 5. Holding companies of microfinance banks geting public and private institutional investors and providing mainly equity finance and technical seeking close to a market return assistance to start-up microfinance banks

3. Structured finance vehicles offering a range of 6. Private equity funds seeking a market return asset-backed securities with different risk and return profiles to microfinance investors (See Table 1 and a list of participating MIVs in Annex 1)

Table 1: MIV Peer Groups*

FIXED INCOME MIXED EQUITY

Registered Commercial Structured Blended- Holding Private Mutual Investment Finance Value Companies Equity Funds Funds Vehicles Funds Funds

Number of Funds 6 5 4 7 4 6 Surveyed Total Assets 391 437 279 146 62 84 (US$ million) Total Microfinance 293 280 268 111 44 70 Investments (US$ million)

Equity as Percent- 6% 1% 0% 28% 93% 76% age of Microfi- nance Portfolio

Debt as Percent- 93% 93% 100% 67% 7% 24% age of Microfi- nance Portfolio

Average Fund Size 65.1 87.2 69.7 21 15.5 14 (US$ million) Return in US$ 5.80% 4.8% 5.3% 1.5% NA NA (euro) (AA) Average Total Ex- 2.7% 2.0% 1.3% 6.1% 8.4% 4.1% pense Ratio**

*The following eight MIVs could not be categorized and included in one of the six peer groups because of lack of data, business model, size, or track record: Oikocredit, Calvert Social Investment Foundation, Finethic Microfinance SCA SICAR, responsAbility SICAV Microfinance Leaders Fund, Gray Ghost Microfinance Fund LLC, Unitus, ProCredit Holding, and BBA Codespa Microfinanzas. **Average total expense ratio, including management fees, administration, and custody costs Source: CGAP MIV Benchmark Project 11627WBCGAP_Newsletter:Layout 1 3/3/08 1:27 PM Page 8

Registered fixed-income mutual funds. These funds percent in U.S. dollars or 3.2 percent in euros in are registered in two countries (Luxembourg and 2006—and are generally allowed to redeem their Holland) that have attractive tax regimes and investments on a monthly basis. These funds invest in favorable mutual fund legislation for nonlisted senior debt9 of MFIs, but also may have large securities.7 MIVs in this category are large (US$65 investments in other MIVs. This group complies with million in assets on average) and fast growing, with strict disclosure regulations and has the most reliable some funds doubling in size each year. They are and standardized reporting among MIVs. distributed through bank networks, such as Credit BlueOrchard and responsAbility are the leading fund Suisse or Dexia, and are offered to both institutional management companies in this group. and retail investors on a private placement basis.8 Investors receive close to money market returns—5.8

Figure 4: Distribution of Assets by Instrument

100 Guarantees 90

80 Debt

70 Equity 60

10 Percentage of Total Microfinance Portfolio ($ Mil) Microfinance of Total Percentage 0 Value Funds Funds Funds Funds Equity Mutual Private Vehicles All MIVs Finance Blended of Micro- Structured Registered Investment Commercial finance Banks Holding Companies

7 European Undertaking for Collective Investment legislation allows for mutual funds to be invested in unlisted and unrated securities. 8 Mutual funds registered in Luxembourg are authorized to sell to the public in Luxembourg only. The Global responsAbility fund is authorized by the Swiss market authority to sell to the public in Switzerland. 9 Senior debt is debt that has a priority for repayment over other classes of debt. 11627WBCGAP_Newsletter:Layout 1 3/3/08 1:27 PM Page 9

Structured Finance Vehicles. Structured finance Registered mutual funds vehicles represent one of the newest forms of financing in microfinance. Most structured finance instruments Average asset size: US$65 million Average age: 4 years pool and repackage microfinance loan assets as mar- Average deal size: US$1 million ketable securities. A majority of structured finance Main instruments: 93% debt vehicles are collateralized debt obligations (CDOs).11 Geographic focus: 77% in LAC and ECA Main subscribers: 59% individuals, The first formal CDO,12 BlueOrchard Microfinance 32% institutional investors Securities I (BOMS), was structured in 2004–2005 by BlueOrchard in partnership with OPIC and Developing World Markets (a private U.S. company set up by Commercial fixed-income investment funds. This emerging market banking professionals). Fourteen group is composed of commercially oriented funds MFIs received loans with a seven-year maturity, and that provide senior debt to high-growth MFIs. They investors were offered five risk classes of the same are subscribed mainly by high net worth and institu- maturity.13 Since then, seven CDOs have been struc- tional investors and are not regulated and supervised tured, and over US$525 million in microfinance securities by capital market authorities.10 They include both have been issued (see Annex 2 for details). debt funds, such as Microvest in the United States, and structured funds, such as the Global Microfinance Consortium. This group is one of the most highly Structured finance vehicles leveraged, with external debt representing 30 percent of assets. MIVs in this group tend to make large Average asset size: US$70 million Average age: 0.8 year investments (three times the mutual fund average) Average deal size: US$4.1 million and have, as a result, relatively low operating cost Main instruments: 100% debt ratios. The average net return in euros for this group Geographic focus: 93% LAC and ECA Main subscribers: 61% institutional investors, is 4.8 percent, above that for mutual funds, although 27% DFIs their track record remains too short (less than two years) to provide meaningful comparisons. Four CDOs participated in the CGAP survey. The vehicles are invested in leading MFIs in just two regions—Latin America and the Caribbean (LAC) and Commercial fixed-income funds Eastern Europe and Central Asia (ECA). This group Average asset size: US$87 million provides MFIs with larger loans (three times the MIV Average age: 1.4 years average) and longer maturities (one-and-a-half times Average deal size: US$2.5 million Main instruments: 93% debt the MIV average). Geographic focus: 96% LAC and ECA Main subscribers: 48% individuals and foundations, Total expense ratios are relatively low compared to 44% institutional investors other funds (half) because deals are large and the portfolio is not actively managed. However, CDOs are costly to set up and involve expensive due

10 With the exception of EFSE, which is registered as a SICAV and regulated by CSSF, the Luxembourg market authority. 11 Microfinance CDOs (also known as collateralized loan obligations) are funds that pool and repackage loans to MFIs and divide the credit risk among different tranches according to relative risk and return: senior tranches, mezzanine tranches, and equity tranches. Repayments to investors follow a “waterfall” structure: holders of senior tranches are paid first, followed by mezzanine tranches, and then junior tranches. Thus senior note holders receive the lowest returns to reflect a high certainty of payment. Equity investors are paid on maturity only if there is residual cash left after all other investors have been paid. CDOs serve as an important funding vehicle for portfolio investments in credit-risky, fixed-income assets. 12 The Latin American Challenge Investment Fund, set up in 1999, was the first microfinance structured fund to provide various “risk tranches” to investors with a waterfall structure. 13 One senior, three subordinated, and one class of equity. 11627WBCGAP_Newsletter:Layout 1 3/3/08 1:27 PM Page 10

diligence processes and legal fees that are not always priced in at full cost. Blended value investment funds

Average asset size: US$20.8 million Because of their credit ratings and the well-covered Average age: 10.4 years default risk, senior tranches of structured finance Average deal size: US$0.6 million vehicles offer the most viable investment opportunities Main instruments: 67% debt Geographic focus: 39% LAC and 26% Sub Saharan for commercial investors. The BOLD II two senior Africa, and 17% Asia tranches, for example, were rated AA and BBB by Main subscribers: 85% individuals and foundations Standard & Poor’s and were offered to private investors at a premium of up to 40 basis points and 95 basis points above three months Euribor, respectively. start-up, greenfield microfinance banks replicating the successful model developed by ProCredit Holding.15 So far junior and equity tranches have been purchased With the exception of ProCredit,16 the track record by public investors and MIVs.14 Junior tranches are of holding companies is too short to assess their attractive investment opportunities for knowledgeable performance. Holding companies receive the highest investors, with an average yield in U.S. dollars close to share of public investment and benefit from additional 8 percent in 2006. public subsidies through DFI-supported technical assistance. This group effectively serves as the Blended value fixed-income and equity funds. investment arm of DFIs set up to create new MFIs in Blended value fixed-income and equity funds include underserved markets. Together, they have a pipeline long-established funds, such as Triodos Doen Founda- of more than 25 new microfinance banks in frontier tion, and newer funds, such as Micro-Credit markets, such as Congo, Yemen, and Algeria. This group Enterprises. Blended value funds are the most heavily has the highest share of investment in Sub-Saharan mission driven and offer a mix of social and financial Africa (31 percent). returns, with target financial returns typically below market rates. Their average return is 1.5 percent. Eighty-five percent of investments come from individ- Holding companies uals, foundations, or nongovernmental organizations. These MIVs have significant investments in Average asset size: US$15.5 million Average age: 2.3 years underserved regions, such as Africa and East Asia, and Average deal size: US$1.8 million tend to invest in small and medium-size MFIs. Not sur- Main instruments: 93% equity prisingly, this category has one of the highest total Geographic focus: 48% ECA and 31% Sub-Saharan Africa expense ratios for debt funds explained by the small Main subscribers: 63% DFIs, 30% institutional average deal size (one-third the MIV average) and investors the high cost of due diligence and legal work for such small deals. Equity funds. This group comprises equity firms and Holding companies of microfinance banks. This venture capital companies offering a blend of equity group comprises holding companies of microfinance and convertible debt to high-growth MFIs in emerging banks established by leading microfinance consulting markets. MIVs in this category include first-generation companies and DFIs. They provide equity finance to venture capital funds (set up by DFIs or networks,

14 Structured finance vehicles is the group with the largest amount of funding coming from other MIVs. 15 ProCredit Holding is a holding of microfinance banks; it did not participate in CGAP’s survey. 16 Not included in the peer group results. 11627WBCGAP_Newsletter:Layout 1 3/3/08 1:27 PM Page 11

such as ACCION) and second-generation equity funds Fixed-income investment—the provision of debt- with a more commercial or regional focus, with private based products—has so far been the mainstay of backers (e.g., Bellwether in India). This group of MIVs microfinance investment. Debt accounts for 78 percent has the highest share of investments in Asia and large of all MIV investment. In 2006 alone, foreign investors commitments in Sub-Saharan Africa. Although DFIs lent a total of US$1 billion. However, the pool of MFIs are the major investors in equity funds, their share is seeking, and able to service, commercial debt finance decreasing, as foreign and local private institutional is relatively small, and most of the debt is concen- investors raise their commitments. This peer group trated in the largest 150 MFIs. has the smallest asset size but the highest growth rate. Results are challenging to analyze, given different The outlook for fixed-income investment is looking accounting practices, notably portfolio valuation prin- less bullish than a few years ago. Gearing—the ratio ciples. Because of the absence of historic data, there of long-term debt to total capital—has increased is also insufficient evidence to develop relevant significantly. With the average debt-to-equity ratio performance benchmarks. Private equity funds are now at 7-to-1 for large MFIs,18 further borrowing will expensive to operate, with total expense ratios ranging be limited by capital adequacy limits and prudential from 3 to 6 percent, and have costs ratios similar to financial management. Moreover, most foreign debt that of blended value funds. is denominated in hard currency. As MFI managers become increasingly aware of the risks of borrowing in hard currency and the costs and difficulty of hedging that risk, the appetite for more hard currency debt Private equity funds may decline, with a growing shift in currency risk to- Average asset size: US$14 million ward investors. Average age: 2.7 years Average deal size: US$1.5 million Main instruments: 76% Equity Competition for good credit is becoming fierce with the Geographic focus: 39% LAC and 27% Sub-Saharan entry of new funds and local banks, together with DFIs, Africa aggressively seeking new opportunities to expand their Main subscribers: 47% DFI, 32% institutional investors own portfolios. High-performing MFIs now have the upper hand. They are making lenders compete and driving hard bargains on terms. In some markets, such as Bosnia, pricing has been cut by as much as 250 Latest trends and issues in debt basis points in just three years. As one Bosnian MFI and equity funding manager put it: “There is a lot of competition among foreign lenders to provide us capital. This means we’re Fixed income: From a sellers to a in a position to negotiate hard with investors and ask for buyers market17 lower interest rates. We need to reduce our own interest rate to clients to remain competitive, so we are seeking For leading MFIs, the supply of credit is abundant and as low cost funds as possible.” growing. More and more lenders, both foreign and local, are entering the market each month. As loan pricing is coming down, and gearing increases, risk-adjusted returns appear less and less attractive in many markets.

17 A buyer’s market is a market that has more sellers than buyers. Low prices result from this excess of supply over demand. It is the opposite of a seller’s market. 18 MIX research conducted by Adrian Gonzalez for CGAP. 11627WBCGAP_Newsletter:Layout 1 3/3/08 1:27 PM Page 12

What has been the investor’s response? have already adopted hedging mechanisms to lend in local currency. ResponsAbility now offers loans in 15 Larger amounts, longer maturities. Investors are currencies with the ambition to reach 40 in the next responding to MFIs’ demand for larger and longer three to five years. DFIs, too, are developing hedging term loans to support their growth plans. The MIV instruments.21 Yet, most MIVs are still small and unable average fixed-income transaction size has increased to afford the cost of hedging required for by 30 percent in just one year. The result is further risk local currency loans. concentration toward large MFIs, known as the “bunching effect.” MIVs have, on average, 40 percent Thus far, the foreign fixed-income picture has been of their investment in only five MFIs.19 DFIs also have dominated by a few funds investing in hard currency in a high level of direct credit exposure to leading MFIs, a small number of high-growth, large-cap MFIs, mainly such as Alamana or Banco Solidario. Managing credit regulated institutions, in Latin America and Eastern exposure limits is becoming an issue. Europe. But it is a very active and quickly changing market. Competition has triggered product diversifica- Loan maturities are increasing. DFIs offer loan maturities tion and innovation. The range of debt products avail- of up to 15 years, and some structured finance vehicles able to MFIs today is broad and includes subordinated are lending up to seven to eight years. Registered loans, long-term loans, local currency loans, and guar- mutual funds, which used to lend short term, now antees, among others. Debt providers are also moving have an average maturity of close to two years. MFI down market, increasing the flow of capital to medium- managers are attracted by such longer term finance, size MFIs. However, in many places, the debt market which is not available on the local market. is overheated, and pricing does not reflect credit and country risks. Greater appetite for risk: Moving down market. MIVs and DFIs are trying hard to reach down market and lend to smaller MFIs. DFIs have supported the Equity, from social bear to commercial creation of local funds, such as Jaida in Morocco and bull…22 Bellwether in India, to provide capital to emerging MFIs. But their absorption capacity is limited. Equity investment has naturally lagged behind fixed- According to the MIX, 300 medium-size MFIs account income investment and was long the domain of for only 11 percent of total MFI assets. Their leverage socially motivated and public investors. is almost as high as the largest 150 MFIs, even though they are, on average, 12 times smaller. Many medium- At first glance, the investment opportunities for equity size MFIs need equity (and, in some cases, technical investors look very attractive. Market-oriented MFIs assistance) more than debt. can combine high growth rates and double-digit returns on equity with plenty of room for upside, Local currency lending. Eighty-five percent of debt given the absence of competition among microfi- financing to MFIs is in foreign currency.20 However, nance providers in most markets and the potential for investors are increasingly developing hedging instru- improved economies of scale, product diversification, ments to enable more local currency lending. Some and higher leverage. large funds, particularly registered funds and CDOs,

19 Simple average top five credit exposure of 40 funds participating in the CGAP MIV 2006 survey. 20 See Featherston, Littlefield, and Mwangi (2006) and CGAP (2006). 21 In 2007, FMO, in partnership with private and public investors, launched the TCX Currency Exchange Fund to offer currency products, such as interest swaps, for emerging markets. 22 A bear market is a period during which investment prices fall. It is the opposite of a “bull market” when investment prices rise faster than their historical averages. 11627WBCGAP_Newsletter:Layout 1 3/3/08 1:27 PM Page 13

However, there are challenges for private equity MFI valuations are up. The dramatic initial public investing, such as the restricted pool of “investable” offering (IPO) of Compartamos in Mexico with a val- MFIs capable of hosting shareholder investment, the uation at 13 times book value caught many market lack of standards and benchmarks for valuation,23 the participants by surprise. This has encouraged other lack of a secondary market, and limited exit options. MFIs to raise capital through this route: the ProCredit These factors depressed equity pricing until 2006.24 Group in Germany, SKS in India, and Independencia (a consumer lending company) in Mexico are all taking ProFund is the first microfinance private equity fund, steps to pursue IPOs in their local markets. These created by socially oriented investors and DFIs, landmark transactions are driving up MFI valuations. to complete a cycle of investment and liquidation. Recent private placement transactions have been It invested US$20 million in 10 MFIs in Latin America reported at one-and-a-half to three times book value. during a 10-year period (1995–2005) with an average The MFI multiplier is approaching the level of the annual return of 6 percent. Most transactions were emerging market bank multiplier, where banks consis- structured as convertible debt rather than common tently sell at two to three times book value. This is de- equity, and sales on exit were made to management spite MFIs’ younger age, smaller size, and relative lack or sponsors, rather than to third parties. of product diversification (DiLeo and Fitzherbert 2007).

However, the market is evolving quickly. More mature Exit options emerging in some markets. The IPOs MFIs are making the decision to transform into “for described above are the first real exits the profit” social businesses and shareholder models and microfinance market has recorded, beyond sales to exit options are increasing. These trends all point to- existing shareholders or specialized microfinance ward improved equity investment opportunities in investors. In large markets like India and Mexico, with the future. sufficient depth to allow for an eventual public offer, some private equity funds are beginning to take More shareholder-owned MFIs. According to a notice of MFIs. For example, Sequoia Capital, a venture recent survey by Council of Microfinance Equity capital firm that backed Google and You Tube among Funds, there are 222 regulated commercial and share- others, has invested in SKS Microfinance in India with holder-owned MFIs today as compared with 124 two the explicit expectation that an IPO will yield significant years ago (Rhyne and Busch, 2006). Returns are also im- capital gains. proving for large MFIs.25 Microcredit portfolio quality remains excellent, and MFIs have access to an abun- Overall, the supply of private equity finance has dant pool of low-cost debt that they can leverage to increased significantly, with eight specialized equity boost profits further. funds established in the past two years and institutional

23 IFRS or GAAP rules of marking-to-market become illusory in most emerging markets because of the absence of mark-to-market transactions. 24 According to research conducted by the Council of Microfinance Equity Fund and Opportunity International, equity transactions through private placements over 2002–2005 were priced on average at only 1.1 times book value. 25 The top 50 MicroRate MFIs have increased their median return on equity from 14 to 23 percent over the past five years, according to Microrate. 11627WBCGAP_Newsletter:Layout 1 3/3/08 1:27 PM Page 14

investors also investing directly in MFIs. Established Is there a microequity bubble? Will microfinance equity private equity funds, such as Blackstone or Legatum, valuations outstrip emerging market commercial bank are also investigating microfinance opportunities and averages? What will happen if microfinance banks taking equity positions in a few MFIs with high returns don’t meet return expectations? The equity market is and growth potential. Other players, such as banks indeed showing some signs of exuberance. We are in (both local and foreign) and mobile network operators, a growth cycle. However, our view is that we are likely are also beginning to assess potential acquisitions in to see a period of consolidation in market prices, but microfinance to gain access to MFIs’ large and loyal not a collapse, because microfinance business funda- customer base and attractive delivery infrastructure. mentals are still good. Such players could emerge as significant strategic investors in large MFIs.

From competition to collaboration: Public and private investors

In the most developed microfinance markets, public conflicting with management incentives that often and private investors are increasingly competing for favor a high-growth strategy. From the MFIs’ the same microfinance investment opportunities. perspective, the long-term commitment and brand When this happens, DFIs often undercut private value of DFI investors can be crucial to protect their investors by offering lower interest rates or more social mission and provide comfort given the relatively flexible terms. This retards the pace of capital market unstable political and socioeconomic contexts within development. which they operate. Many fear that private investment will be the first to flee in times of crisis. However, with Not all DFIs and socially oriented MIVs can be put in growing investor appetite for microfinance, DFIs have the same basket however. Some offer low interest more exit options and greater opportunities to rates and are prepared to accept below market returns demonstrate their added value by investing where while others charge higher rates and expect higher other investors will not. returns (with the social return as an added benefit), much like private investors. For this reason, the public– DFIs’ most important role is investing in less private angle is not the most helpful to understand developed and frontier markets, such as Yemen or behavior; a more relevant distinction to make is Sudan, and building new MFIs that will eventually between purely commercial profit-seeking capital as attract private investment. Some are already playing opposed to blended value funds—both public and this role. Dutch FMO, for example, has engaged with private. and developed joint ventures with private investors and has participated in local bond offerings for MFIs to Although several DFIs recognize that they should exit encourage local private investors to follow on purely the most developed markets by, for example, selling commercial terms. The Microfinance Initiative for Sub- their microfinance assets in large, profitable MFIs to Saharan Africa program supported by KfW and IFC is private investors, it is not always clear when and how also helping to create new MFIs in Africa. to exit. Exiting from mature investments can significantly reduce DFIs’ overall investment portfolios, 11627WBCGAP_Newsletter:Layout 1 3/3/08 1:27 PM Page 15

Conclusions take foreign investment. In other countries, local banks are the main source of external funding. In yet Microfinance investing occupies a very small, but rapidly other markets, MFIs are in their early stages and depend growing niche in both socially responsible and emerging on government donor agencies, foundations, NGOs, markets investments. Public investors have been at or apex institutions for funding. the forefront of this investment trend. However, today there is an increasingly sophisticated network of So what impact is foreign investment likely to have on international private investors looking for ways to the social focus of microfinance? Whereas local invest in microfinance on an ever larger scale. Public sources of funding—deposits, local bank financing, investors need to respond to fast-paced evolutions in and bond issues—are generally commercially driven, market changes by redefining where they have most foreign investment has come from investors with the most added value to avoid crowding out private a double bottom line seeking financial and social returns. investment. As would be hoped for, MFIs that have received such foreign investment are remaining focused on their How will private-sector investors affect the future de- double bottom line. velopment of microfinance? Clearly, private investors are already playing a significant role in certain markets, Socially responsible investors are likely to become bringing in not only important capital but, equally more demanding about social and environmental important, crucial governance capacity and much- performance than other investors. Triodos is already needed skills in growing and managing professional pushing MFIs to be more transparent about their social businesses. But, this exciting trend of increasing foreign impact, lending practices, and environmental policies private-sector investment must be kept in perspective. and promotes Global Reporting Initiative standards. The reality is that the bulk of foreign investment is Others are pushing for the development of screening going to the top 150 MFIs in about 30 countries and services that can help socially responsible investors two regions: Latin America and Eastern Europe and identify “best in class” MFIs in key areas, such as Central Asia account for 75 percent of cross-border poverty outreach, gender, or responsible lending. capital flows. Africa and Asia, where poverty and These services will screen out institutions that do not potential microfinance demand is highest, receive have a clear social dimension to their operations or only 6 and 7 percent of foreign investment, respectively. those that have predatory lending practices. In this way, socially responsible investors can be a major Moreover, foreign investment is quite appropriately force in improving transparency and accountability just one source of funding. In Asia, many large and on social performance in microfinance. rapidly growing MFIs have the ability to self-finance their operations through savings intermediation, local However, the market is also beginning to see the entry bank loans, and bond issuance. For example, BRI Unit of foreign investors that are investing in microfinance Desa in Indonesia, the largest MFI in the world, has 10 on purely commercial terms with higher financial savers for each borrower. Even Grameen Bank, which return expectations. Some emerging market private used to borrow heavily from foreign sources, now has equity players are starting to invest in high-growth excess liquidity from client deposits. In many African MFIs with target returns in the 20–30 percent range. countries, the predominant microfinance model is Although the share of this type of investment is still savings-led financial cooperatives that do not even extremely low, it raises important questions about 11627WBCGAP_Newsletter:Layout 1 3/3/08 1:27 PM Page 16

whether a profit-maximizing investor base will allow in India, have taken on private venture capital financing microfinance to uphold its social mission. Will profits and are confident they can both maximize profits and be reinvested for the benefit of the clients through, for add social value for poor clients through a high- example, lower interest rates or more remote service growth business model. Other MFIs seek to reach provision, or will the focus be on maximizing share- financial sustainability while focusing on maximizing holders’ financial returns at the clients’ expense? It is their social impact by deepening outreach, expanding too early to tell whether such market pressures will into remote areas, or expanding the range and quality force MFIs into mission drift. However, these questions of services. These MFIs are looking for more socially are already generating tensions in MFI board rooms. driven investors.

MFI directors need to understand the nature, Better information on social and financial performance consequences, and trade offs of the financing of both MFIs and MIVs is needed to allow for the most options open to them. Private equity investment is effective allocation of financing. A more efficient capital attractive but it comes with high and fast return market that integrates social and financial decision- expectations (within five years) and requires a clear making can help develop a robust microfinance focus on business profitability—sometimes at the industry that achieves the overall goal of sustainable expense of clients’ concerns. Some MFIs, such as SKS and responsible financial services for all. 11627WBCGAP_Newsletter:Layout 1 3/3/08 1:27 PM Page 17

Annexes

Annex 1. MIVs that participated in the CGAP and Symbiotics survey Annex 2. Collateralized Debt Obligation Transactions to Date Annex 3. Abbreviations and Acronyms Annex 4. Bibliography Annex 5. CGAP MIV Benchmarks: MIVs Balance Sheet and MIVs P&L and Performance 11627WBCGAP_Newsletter:Layout 1 3/3/08 1:27 PM Page 18

Annex 1. MIVs that participated in the CGAP and Symbiotics survey

Registered Mutual Funds Holding Companies of Microfinance Banks ASN-Novib Fonds Global Microfinance Group SA Dexia Microcredit Fund Advans Dual Return Fund SICAV MicroCred responsAbility Global Microfinance Fund Opportunity Transformation Investments, Inc. St. Honoré Microfinance Triodos Fair Share Fund Private Equity Funds ACCION Investments in Microfinance SPC Commercial Investment Funds Africap Microfinance Fund Ltd Global Microfinance Consortium Bellwether Microfinance Fund European Fund for South East Europe Balkan Financial Sector Equity Fund C.V. Impulse Microfinance Investment Fund NV Investisseur et Partenaire pour le Développement MicroCredit Enterprises ShoreCap International, Ltd. MicroVest I, LP Triodos-Doen Foundation Funds not categorized Calvert Social Investment Foundation Structured Finance Vehicles BBA Codespa Microfinanzas BlueOrchard Loans for Development 2006-1 (BOLDI) Finethic Microfinance SCA SICAR BlueOrchard Microfinance Securities-1 (BOMS1) Gray Ghost Microfinance Fund LLC Microfinance Loan Obligations SA, Oikocredit Compartment Opportunity Eastern Europe 2005-1 Procredit Holding Microfinance Securities XXEB responsAbility SICAV Microfinance Leaders Fund Unitus Blended Value Funds The Dignity Fund, L.P. Fonds International de Garantie Hivos-Triodos Fund Foundation Incofin cvso Opportunity Loan Guarantee Fund I, LLC International Solidarity For Development and Investment 11627WBCGAP_Newsletter:Layout 1 3/3/08 1:27 PM Page 19

Annex 2. Collateralized Debt Obligation Transactions to Date

2004 2005 2006 2007 2008 BlueOrchard Microfinance Loan BlueOrchard BlueOrchard Global Microfi- Microfinance Obligations – Loans for Loans for nance Facility Securities LLC Opportunity East- Development I Development II ern Europe 2005-1

Jul-04 Nov-05 Apr-06 May-07 TBD

$87 MM $60 MM $99.21 MM $110.2 MM US$165 MM

5 risk profiles, 7-year 3 risk profiles, senior 2 risk profiles 3 risk profiles, 7-year Portfolio to be ac- maturity, senior note note guaranteed by maturity tively managed until guarantee by OPIC EIF 2014

— Senior note rated — Class A rated AA Senior notes rated AAA/Aaa/AAA (with (S&P), Class B rated AA (Fitch) EIF wrap) BBB (S&P) Class C unrated

14 MFIs, 9 countries MFIs, 7 countries 21 MFIs, 13 countries 20 MFIs, 12 countries 30 MFIs, 13 countries

Sponsored by Sponsored by Oppor- Structured by Morgan Structured by Morgan Structured by BlueOrchard Finance tunity International. Stanley. Sponsored Stanley. Sponsored Citigroup S.A. & Developing Co-arranged by Sym- by BlueOrchard by BlueOrchard World Markets biotics & European Investment Fund Microfinance Secu- MicroAccess Trust rities XXEB 2011

Jun-06 Jul-07

$60 MM US$39 MM

4 risk profiles, 5-year 1 risk profile maturity Senior notes rated A1 — by MicroRate (Moody's scale) 26 MFIs, 17 countries 10 MFIs, 8 countries

Sponsored by Devel- Structured by Lehman oping World Markets. Brothers for Serviced by Symbi- MicroVest Capital otics & Global Part- Management nerships. Microfinance- Invest Nr. 1 Sep-07

€60 MM

3 risk profiles, c.7- year maturity Senior notes rated AAA (Fitch) 21 MFIs, 15 countries

Structured by DeutscheBank 11627WBCGAP_Newsletter:Layout 1 3/3/08 1:27 PM Page 20

Annex 3. Abbreviations and Acronyms

AECI Agencia Española De Cooperación Internacional AUM assets under management BOLD Blue Orchard Loans for Development I and II BOMS Blue Orchard Microfinance Securities LLC CDO collateralized debt obligation CLO collateralized loan obligation CMEF Council for Microfinance Equity Funds CGAP Consultative Group to Assist the Poor DFI development finance institutions EBRD European Bank for Reconstruction and Development EFSE European Fund for Southeast Europe FMO The Netherlands Finance Development Company IADB Inter-American Development Bank IFC International Finance Corporation IPO Initial Public Offering KfW Kreditanstalt für Wiederaufbau OPIC Overseas Private Investment Corporation MFI microfinance institution MIV microfinance investment vehicle MIX Microfinance Information Exchange Inc. NGO nongovernmental organization SRI socially responsible investment S&P Standard and Poor’s (rating service) VC venture capitalist 11627WBCGAP_Newsletter:Layout 1 3/3/08 1:27 PM Page 21

Annex 4. Bibliography

Abrams, J., and D. von Stauffenberg. 2007. Role Re- ING. 2006. A Billion to Gain. A study on global financial versal. Are Public Development Institutions Crowding institutions and microfinance. The Netherlands: ING. Out Private Investment in Microfinance? MicroRate. http://www.microrate.com/pdf/rolereversal.pdf. Ivatury, G., and J. Abrams. 2005. “The Market for Foreign Investment in Microfinance: Opportunities Barclay, O’Brien. 2006. “Valuing Microfinance Institu- and Challenges.” Focus Note 30. Washington, D.C.: tions.” Savings and Development (3):275–96. CGAP, August. http://www.cgap.org/portal/binary/ com.epicentric.contentmanagement.servlet.Content- CGAP. 2006. “Foreign Exchange Risk Mitigation Tech- DeliveryServlet/Documents/FocusNote_30.pdf niques: Structure and Documentation.” A Technical Guide for Microfinance Institutions. Washington, D.C.: Ivatury, G., and X. Reille. 2004. “Foreign Investment in CGAP. Microfinance: Debt and Equity from Quasi-Commer- cial Investors.” Focus Note 25. Washington, D.C.: DiLeo, P., and D. Fitzherbert. 2007. The Investment CGAP, January. http://www.cgap.org/portal/ Opportunity in Microfinance. An Overview of Current binary/com.epicentric.contentmanagement.servlet.Co Trends and Issues. Grassroots Capital Management ntentDeliveryServlet/Documents/FocusNote_25.pdf LLC., June. http://www.grayghostfund.com/industry_insights/view MIXMarket. http://www.mixmarket.org/. points/the_investment_opportunity_in_microfinance Poulliot, R. 2007. “Governance, Transparency and Featherston, Scott, Elizabeth Littlefield, and Patricia Accountability in the Microfinance Investment Fund Mwangi. 2006. “Foreign Exchange Rate Risk in Micro- Industry.” In Microfinance Investment Funds. Springer finance: What Is It and How Can It Be Managed?” Fo- Berlin Heidelberg, Part II, pp. 147–74. Berlin: Kredi- cus Note 31. Washington, D.C.: CGAP. tanstalt fur Wiederaufbau

Forum for the Future. 2007. New Horizons. Creating Rhyne, B., and B. Busch. 2006. The Growth of Com- Value, Enabling Livelihoods. London: Forum for the mercial Microfinance: 2004-2006. Council of Microfi- Future. nance Equity Funds.

Goodman, P. 2004. “Microfinance Investment Funds: Swanson, B. 2007. “The Role of International Capital Objectives, Players, Potential.” 2004 KfW Financial Markets in Microfinance.” http://www.dwmarkets. Sector Development Symposium. Luxembourg: Appui com/Resources.htm. au Développement Autonome.

———. 2005. Microfinance Investment Funds: Key Features. Luxembourg: Appui au Développement Autonome. 11627WBCGAP_Newsletter:Layout 1 3/3/08 1:27 PM Page 22

> 22 4% Assets Microfinance 1,987 1,758 88.5% BlueOrchard Loans for BlueOrchard Development 2006-1, Blue- Securi- Microfinance Orchard ties-1 (BOMS1), Microfinance Loan Obligations SA - Compartment Opportunity Eastern 2005-1, Europe Securities Microfinance XXEB. N=7 Structured Finance Vehicles, N=4 Total Assets Total 3,049 2,651 86.9% Fonds International de Garantie, Hivos-Triodos Fund Foundation, Incofin Enterprises, cvso, MicroCredit Opportunity Loan Guarantee Fund I, LLC, International Solidarity For Development and Investment, Triodos- Doen Foundation. Total Assets Total 3,049 2,651 86.9% Nbre of MIVs Nbre 64 40 62.5% Global Microfinance Global Microfinance Consortium, The Dignity Fund European Fund, L.P., for South East Europe, Impulse Microfinance Investment Fund NV, I, LP. MicroVest *EFSE not included Survey Universe (active MVIs 2006, CGAP) Sample Global Microfinance Group Global Microfinance SA, Advans, MicroCred, Opportunity Transformation Investments, Inc. ACCION Investments in SPC, Africap Microfinance Fund Ltd, Microfinance Bellwether Microfinance Fund, Balkan Financial Sector Equity Fund C.V., Investisseur et Partenaire pour le Développement Interna- (I&P), ShoreCap tional, Ltd. Registered Mutual Funds, N=6 Private Equity Funds, N=6 Holding Companies, N=4 Commercial Investment Funds, N=5 Blended Value Funds, ASN-Novib Fonds, Fund, Dexia Microcredit Dual Return Fund SICAV, Global Micro- responsAbility finance Fund, St. Honoré Fair Triodos Microfinance, Fund. Share All MIVs, N=40 All peer groups' MIVs and All peer groups' Calvert Social Invest- BBVA, ment Foundation, Finethic SCA SICAR, Microfinance Gray Ghost Microfinance Fund LLC, Oikocredit, Holding, respons- Procredit Microfinance Ability SICAV Leaders Fund, Unitus Equity Fund. MIV average Balance sheet ($ million) Assets (TA)Total (NAV)Net Asset Value Portfolio (MP)Microfinance Liquid AssetsTotal Portfolio (MP) ($ Million)Microfinance InvestmentsMicrofinance Portfolio in Equity Microfinance Portfolio in Fixed incomeMicrofinance Portfolio in GuaranteesMicrofinance %TAMaturities of fixed income investments (Months) Investments in MFIs Direct Investments in other MIVs 43.9 51.8 38 66.3 (40)Geographic Distribution 34.0 (40)Eastern and Central Asia %MP Europe (17) (40) 9.3 66.3% (40)Latin America 0.7 8.9 78.1% 43.9East Asia & Pacific 100.0% 48.9 %TA (40) 63.3 77.4%South Asia (40) (40) 65.1 (40)Middle East and North Africa 45.5 (6) 21.1%Sub-Saharan Africa (6) 13.4% 1.5% (6) 19Other 41.5 75.1% (6) 3.1 8.0 97.3% 100.0% 0.3 2.5 (40) 11.7Risk Indicators, concentration and currency %MP 20.0 93.1% 13.4 (6) (4) 14.0 One Country ExposureTop 48.9 (6) (6) (40) Five Country Exposure 94.4% Top Total (6) (40) 2.9 (6) (6) Investment Exposure One Microfinance %TATop 6.4% 12.3% (6) 43.6 Investment Exposure Five Microfinance Top 0.5%Total 83.5% 45.4% 5.6% 100.0% (6) 95.9% Exposure One Unhedged Currency Top 8.8 1.7 11.0 (6) 16.1 0.1 15.5 Exposure Five Unhedged Currency Top Total 5.3 11.9 - 20.8 44 %MP 24.4% (6) (6) 89.2% 7.1 2.3 (40) (6) 15.5 (4) (IT)Investor Type %MP %MP (40) (6) (4) 0.8 (4) (6)Public Institutions 11.7 11.6 75.6% (3) 11.8% (40) (40) 100.0% 70.8% (40) 32.9%Private Institutions 26.9 0.2% 47.4% 6.8 10.8% 77.0% 3.1 10.2 (4)MIVs 2.3 4.3 3.9 (6) (6) 1.2 %TA 87.3 56.0 8.3 16.2% 16.8 35.3% 0.6 5.3% 0.1 (40) 67.0Other (NGOs, Foundations, Individuals) (39) (40) 0.1 (33) (39) 7.2% (4) 99.3% 21.6 (40) (40) 5.6 (4) (5) (5) (6) 1.6 (6) 61.3% 19.6%Name of MIVs (6) (5) (6) 11.0 %MP 6.9% 52.0 92.8% 11.2% - (6) 27.7% 3.4% 18.8% - 25.6 (6) 2.7% 34.4% 100.0% 1.8 (6) 0.7 4.8% %MP %MP 64.1% 1.9 0.2% 11.0 0.7% 0.3 20.8 0.6 76.7% (4) (5) 5.0 8.0 44.1% 15.8 5.9 1.9 11.4% (6) 8.7 25.5 (40) 11.7 5.2 (6) (4) 3.3% 0.02 (6) 99.8% - (7) (6) (4) (5) 4.5 (6) (6) (7) 52.4% 3.5 (6) (33) (5) 92.8% (6) (7) 4.2% 54.9 1.7 100.0% (4) 1.5% (4) %TA 10.6 3.8% 16.3% (6) 0.5% 75.9% (6) 9.0 (6) 38.1% 7.8% 74.3% 3.8% 55.9% 5.9 69.7 20.2 47.8% 1.0% (6) 6.8 %MP (5) 0.2% (7) 6.8% 37.7 67.0 3.1 19.0 38.8% 4.2 3.1 30.3% 7.9 (6) 68.9 1.5 4.4 44.8 1.8 (33) 3.4 (4) (6) %MP 3.8 14.3% (6) 56.0 66.8% 1.1 44 (33) 1.3 (4) (6) (6) 98.1% 3.6 (6) %MP (6) 76.6% 100.0% (7) (4) (4) 30.1% (4) (6) 12.0% (7) (5) 0.3 14.8 (5) 67.0 57.8% Data Rating Peer Group Average %IT 28.4% (5) 96.1% 26.5% (5) 59.0% 36.0% 26.7% 7.9 (4) - by MIV and validated with 1= data provided 98.8% 72.1% 28.1% (4) (4) 0.5 15.7% 6.6% 18.5% (7) %TA 7.6 - 20.7 (4) audited financial statements, 2= data provided (4) 79.9% 3.4 3.6 3.2 3.4 11.4% 30.2 6.1% 33.2%by MIV and validated with unaudited financial (4) 0.1 100.0% (6) - - 1.9% 2.4 2.0 93.4% (6) by MIV without statements, 3= data provided (4) %MP (4) 2.5% 0.8 (6) 13.6 (4) (4) 9.0 72.1% (4)financial statements 1.0 (4) (5) 67.0 %MP (4) (7) (4) 0.8% 32.4% 69.5% (4) 15.8 %MP (7) 1.0 31.1% 14.1% 46.6 (3) 33.2% 30.6% (5) 21 (7) (5) 10.6 (4) 15.3% 54.0% 0.6% 7.5 0.1 2.9% (7) 0.6 15.4 1.9 0.8 (5) %IT 5.0% (5) 0.1 100.0% 6.1 25.6 (4) 6.6% 24.3% (1) 16.1% 0.2 (4) %TA - (5) 0.7 (5) (3) (5) 2.0 - 6.1 (7) (5) 46.5% (4) 83.1% 1.7% - 32.8% (5) 1.3 (4) (7) 6.4% 9.1 (7) %MP 2.0 (5) 5.8 38.6% 27.6% 38.2% 0.1% 2.8 (4) 1.5% 67.0 0.1% %MP (4) 14.8 %MP (4)* 2.5 4.6 35.8 (7) 6.5% 12.4% (7) 38.5% 0.3% 4.1 50 (3) 1.7 (4) (3) (7) 0.8 (4)* (7) 36.8 (4) 57.4% 0.2 9.5 12.7% %IT (7) 63.2% 1.5 4.3% (7) 30.4% (2) 48.5 (7) 16.0% 53. 29.2% (4) 0.4 (4) 47.8% 2.5 (5) 0.2 25.9% 1.4 13.5 10.5% 12.4 12.0 %MP (4) 54.9% 3.2 14.1% (6) 5.1% (4) (7) (4)* - (4)* 2.6 %MP (6) 0.4% (4) 72.4% (4) 1.0 2.9% 3.7% 1.1% (4) 0.2 43.5% 84.5% (4) 17.8% 4.4% (4) 4.8% 1.8 4.3 (7) %IT 0.3 0.02 3.8% 1.4 2.0 (6) (6) 1.5% (2) (4) 1.5% (2) %MP 12.5% 0.1% 9.1% %MP 0.4% 0.9 3.0% 28.6 12.8 (4) (2) (2) 1.3% 60.7% %IT 27.2% 2.0 %IT 1.6 %IT 1.0 2.8 CGAP MIV benchmarks table Peer group by Symbiotics powered population's average in million are figures All currency US Dollars as of 2006-12-31. The number in brackets indicates the sample size. MIVs Balance Sheet 11627WBCGAP_Newsletter-R1:Layout 13/4/089:45PMPage23

CGAP MIV benchmarks MIVs P&L and Performance Peer group table Survey Nbre of MIVs Total Assets Total Assets Assets Microfinance Universe powered by Symbiotics (active MVIs 2006, CGAP) 64 3,049 3,049 1,987

All currency figures are population's average in million Sample 40 62.5% 2,651 86.9% 2,651 86.9% 1,758 88.5% US Dollars as of 2006-12-31. The number in brackets indicates the sample size. All MIVs, N=40 Registered Mutual Funds Private Equity Funds Holding Companies Commercial Investment Funds Blended value Funds Structured Finance Vehicles

Size Total Assets (TA) ($ million) 66.3 (40) 65.1 (6) 14.0 (6) 15.5 (4) 87.3 (5) 20.8 (7) 69.7 (4) Annual TA growth (for MIVs existing in 2005) 68.4% (28) 60.7% (5) 76.0% (5) 45.0% (3) 139.8% (3) 25.0% (6) 130.4% (2)

Age Nbre of years since registration 4.6 (40) 4.0 (6) 2.7 (6) 2.3 (4) 1.4 (5) 10.4 (7) 0.8 (4)

Average Deal size ($ million) Average Equity Investment Size 2.2 (40) 3.1 (6) 1.5 (6) 1.9 (4) 0.7 (5) 0.6 (7) - (4) Average Fixed Income Investment Size 1.3 (40) 0.9 (6) 0.6 (6) 0.5 (4) 2.6 (5) 0.5 (7) 4.1 (4) Average Size of Direct Investments in MFIs 1.5 (40) 1.0 (6) 1.5 (6) 1.8 (4) 2.5 (5) 0.6 (7) 4.1 (4) Average Size of Investments in other MIVs 1.0 (40) 1.7 (6) 0.5 (6) 0.1 (4) 1.4 (5) 0.3 (7) - (4)

Return Class Valuation Currency - EUR USD - EUR EUR - Net Asset value - 38.0 (4) 48.7 (2) - - 7.4 (3) - Annual Total Return - 3.2% (5) 5.8% (2) - 4.8% (2) 1.5% (2) - Spread above Euribor/Libor 3 Months - 10 BPS (5) 60 BPS (2) - - - - Annualized Average Return since Inception - 2.3% (5) 4.1% (2) - - - - Class Risk (senior, mezzanine, junior, ...) - - - - - Senior Junior % of interest subordinated - - - - - 0.0% (4) 81.4% (4) % of interest to which senior - - - - - 40.1% (4) 3.3% (3) Spread above reference rate - - - - - 20 BPS (4) 400BPS (4) Average Life, Years - - - - - 5.4 (4) 5.5.4 (4)

Efficiency and Cost Structure % %TA %TA %TA %TA % Notes Total Expense Ratio - 2.7% (5) 4.1% (4) 8.4% (3) 2.0% (5) 6.1% (7) 1.3% (3)

Equity Leverage Debt/Equity 45.0% (38) 2.8% (6) 4.3% (6) 29.9% (4) 30.4% (5) 18.3% (5) - (4)

MIV Jurisdiction (by TA) %TA %TA %TA %TA %TA %TA %TA Western Europe 86.4 (25) 81.5% 65.1 (6) 100.0% 0.2 (1) 0.2% 4.5 (3) 21.8% 175.1 (2) 80.2% 25.8 (5) 88.5% 65.0 (3) 69.9% North America 41.9 (9) 14.2% - 27.1 (1) 32.2% 48.5 (1) 78.2% 15.4 (2) 7.0% 8.4 (2) 11.5% 84.0 (1) 30.1% Central America, Mexico & Caribbean 25.9 (3) 2.9% - 19.9 (1) 23.7% - 55.8 (1) 12.8% - - Africa 15.4 (2) 1.2% - 15.4 (2) 36.8% - - - - South Asia 6.0 (1) 0.2% - 6.0 (1) 7.2% - - - -

Name of MIVs All peer groups' MIVs and ASN-Novib Fonds, ACCION Investments in Global Microfinance Group Global Microfinance Fonds International de BlueOrchard Loans for BBVA, Calvert Social Invest- Dexia Microcredit Fund, Microfinance SPC, Africap SA, Advans, MicroCred, Consortium, The Dignity Garantie, Hivos-Triodos Development 2006-1, Blue- ment Foundation, Finethic Dual Return Fund SICAV, Microfinance Fund Ltd, Opportunity Transformation Fund, L.P., European Fund Fund Foundation, Incofin Orchard Microfinance Securi- Microfinance SCA SICAR, responsAbility Global Micro- Bellwether Microfinance Investments, Inc. for South East Europe, cvso, MicroCredit Enterprises,ties-1 (BOMS1), Microfinance Gray Ghost Microfinance finance Fund, St. Honoré Fund, Balkan Financial Impulse Microfinance Opportunity Loan Guarantee Loan Obligations SA - Fund LLC, Oikocredit, Microfinance, Triodos Fair Sector Equity Fund C.V., Investment Fund NV, Fund I, LLC, International Compartment Opportunity Procredit Holding, respons- Share Fund. Investisseur et Partenaire MicroVest I, LP. Solidarity For Development Eastern Europe 2005-1, Ability SICAV Microfinance pour le Développement and Investment, Triodos- Microfinance Securities Leaders Fund, Unitus Equity (I&P), ShoreCap Interna- Doen Foundation. XXEB. Fund. tional, Ltd.

Average Peer Group Data Rating 1= data provided by MIV and validated with 1.9 1.5 2.0 2.0 1.6 1.0 2.8 audited financial statements, 2= data provided by MIV and validated with unaudited financial statements, 3= data provided by MIV without financial statements 11627WBCGAP_Newsletter:Layout 1 3/3/08 1:27 PM Page 24

No.44 February 2008

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© CGAP, 2008 The Authors of this Focus Note are Xavier Reille, lead microfinance Ian Callaghan, Morgan Stanley specialist for CGAP, and Sarah Forster, director of Geoeconomics, an Roland Dominice and Patrick Goodman, Symbiotics independent consultancy. The authors wish to thank Tanya Surendra, as well Braco Erceg, Microfin Bosnia as Adrian Gonzalez from the MIX and Yannis Berthouzoz from Symbiotics David Fitzherbert, Gray Ghost for their research assistance. They express their appreciation to Alexia Susan Johnson, Bath University Latortue, Elizabeth Littlefield, Kate McKee, and Jeannette Thomas for their Ann Miles, BlueOrchard input. The authors are also grateful for the contributions of investors, MFIs, Nejira Nalic, Mi-Bospo and analysts interviewed during this research: Robert Pouliot, RCP Alex Silva, Omnitrix Fouad Abdelmoumni, Alamana Deborah Burand, Grameen Foundation Alice Chapple and Vedant Walia, Forum for the Future

CGAP materials are frequently cited in other works. The following is a suggested citation for this Focus Note:

Reille, Xavier, and Sarah Forster. 2008. “Foreign Capital Investment in Microfinance: Balancing Social and Financial Returns.” Focus Note 44. Washington, D.C.: CGAP.